Calculation, Determinants & Significance of PES (Cambridge (CIE) O Level Economics)
Revision Note
The Definition and Calculation of PES
The law of supply states that when there is an increase in price (ceteris paribus), producers will increase the quantity supplied and vice versa
Economists are interested in how much the quantity supplied will increase
Price elasticity of supply (PES) reveals how responsive the change in quantity supplied is to a change in price
The responsiveness is different for different types of products
Calculation of PES
PES can be calculated using the following formula
To calculate a % change, use the following formula
Worked Example
In recent months, the price of avocados has increased from £0.90 to £1.45. Bewdley Farm Shop in Wales have sought to maximise their profits by increasing the quantity supplied to market. They have been able to increase the supply of avocados from 110 units a week to 120 units a week. Calculate the PES of avocados and explain one reason for the value
Step 1: Calculate the % change in QS
Step 2: Calculate the % change in P
Step 3: Insert the above values in the PES formula
Step 4: Explain one reason for the value
The PES value of 0.15 indicates that avocados are very price inelastic in supply. Even with a significant increase in price, suppliers are unable to supply more likely due to the time it takes to grow additional avocados
Examiner Tip
When doing elasticity calculations, make sure that your final answer is not expressed as a percentage. This is a common error and loses marks.
Interpreting PES values
The Values of PES Vary From 0 to Infinity (∞) and They Are Classified As Follows
Name | Explanation |
---|---|
Perfectly inelastic Value = 0 |
|
Relatively inelastic Value = 0→1 |
|
Relatively elastic Value = 1 → ∞ |
|
Perfectly elastic Value = ∞ |
|
Unitary elasticity Value = 1 |
|
The Determinants of PES
Some products are more responsive to changes in prices than other products
The factors that determine responsiveness are called the determinants of PES and include:
Mobility of the factors of production
If producers can quickly switch their resources between products, then the PES will be more elastic. For example, if prices of hiking boots increase and shoe manufacturers can switch resources from producing trainers to boots, then boots will be price elastic in supplyAvailability of raw materials
If raw materials are scarce, then PES will be low (inelastic). If they are abundant, PES will be higher (elastic)Ability to store goods
If products can be easily stored, then PES will be higher (elastic) as producers can quickly increase supply (for example, tinned food products). An inability to store products results in lower PES (inelastic)Spare capacity
If prices increase for a product and there is capacity to produce more in the factories that make those products, then supply will be elastic. If there is no spare capacity to increase production, then supply will be inelasticTime period
In the short run, producers may find it harder to respond to an increase in prices as it takes time to produce the product (e.g. avocados). However, in the long run, they can change any of their factors of production so as to produce more
Examiner Tip
Many students confuse PES with PED and inadvertently answer questions using knowledge from PED. When faced with PES questions, tell yourself to think like a producer (and not a consumer!) and it will help you to stay focused on providing the correct answer.
The Significance of PES for Stakeholders
If producers have a high PES (elastic), then they are able to respond to increases in price very quickly
This is desirable as it means producers can increase revenues and profits if they can supply more
Firms can increase their PES by:
Creating more spare capacity on their production lines
Maintaining larger inventories
Using more modern technology
If producers have a low PES (inelastic) then they are less able to respond to increases in price
This shortage in supply will mean that prices continue to rise, possibly causing inflation in the economy
Governments are very interested in the PES of key markets in the economy as they want to ensure that these markets can respond quickly to rising demand
One example is the housing market
If the PES of housing is low (inelastic), property prices will become unaffordable with any increase in demand
Another example is the labour market
If the PES of labour is low (inelastic) then production costs of firms will rise quickly during periods of increasing demand when firms need to hire additional workers
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